Long-Short Hedged Market Position


A good friend of mine asked me to share my perspective on the current markets or latest politics, since it’s been so long since I wrote about this topic. So I’m sitting in Starbucks blogging away on my phone…

Several months ago, back in May, I recommended to my friends to do what’s called a long-short hedged position.

Buying a stock long refers to buying with the expectations it will go up in price. This the normal way to invest in stocks. Going short, or selling short, refers to positioning for a stock decline in price, whereby if the price goes down, you make money. This is less common. To sell short, you have to borrow actual shares from someone else who actually owns the same stock. There are also nominal interest rates, typically market rates, since it is actually borrowed money or shares. But it isn’t as difficult as this may sound because all of it is transparent to you and the logistics is handled by your broker. Selling short is basically as simple as buying a stock long, so don’t be afraid of it.

A hedged position refers to, basically, an insurance policy – hedging your bets just in case you’re wrong on the expected direction of stock or the market. Nobody, I mean literally nobody, can be absolutely certain of anything in the stock market. I don’t care who you are or how smart you are. That’s because the markets are often driven not by data and fundamentals, but too often by emotion and irrationality. So, it’s ALWAYS wise to hedge your investments.

My hedged position was the following. I will explain what these are, as well as why I made these recommendations:

1. Short SPY, the S&P 500 index tracker fund.

2. Go long on Macy’s (M)

3. Go long on Twitter (TWTR)

4. Go long MGT (MGT Capital Investments), a high risk investment, a small but potentially explosive small company.

5. And of course, add more Gold (GLD).

At the time, SPY was trading around $205 and I expected macro economic and disappointing company earnings pressures to drive it lower. Instead it soared higher, trading around $218 today, about a 6% increase, which means I lost 6% of my value. The economic data and especially company earnings have, in fact, been weak. But like I said, often markets do what they will do. Sometimes the markets end up being right, and sometimes completely wrong and a correction, or worse, follows.

Gold (GLD tracker fund) usually trades inversely with the overall market in a true bull market. However, given the fear and uncertainty of many investors, it has climbed even higher since May, going from about $122 when I made the call, to about $129 today at the time of this writing, nearly a 6% gain. But my original call to start buying gold was in December when it made the lows of around $102, before the bull market in GLD started. Its skyrocketed more than any other asset class this year. I still recommend gold. It will go much higher.

Macy’s (M) was trading at multi-year lows back in May, having been pummeled as investors lost faith in the company after such weak ongoing earnings. I researched the company, realized it was undervalued and had sold off too much, too quickly. The earnings hits had been due to inventory correction and adjustments leading to slashing sales prices, affecting profits and earnings. The weak consumer spending was the problem. But Macy’s was still profitable and has an excellent brand reputation. I love shopping at Macy’s. And inventory problems are usually temporary, until levels are appropriate for the end demand, at which point, I felt earnings should solidify. Given the massive stock discount, I thought it was a no brainer stock buy heading into the second half and critical holiday shopping season. Today M is trading near $40, up from just barely above $30 back in May when I recommended it, a whopping 31% gain in 3 months! A very good investment. But I suggest dumping Macy’s before the Christmas season. It will likely get to about $45-$50. Sell it.

Twitter was also being crushed by speculative investors. Many felt the company had no coherent strategy to monetize their highly popular social media platform. It dropped from over $31 to about $14 very quickly. Around $14, there is what’s called technical support in the stock chart. This is basically a point at which people who follow buying and selling of stocks based on a stock’s price and it’s historical price pattern will step in and begin buying. In other words, it was a floor under the price of the stock. Only something very catastrophic would drive Twitter stock down below $14. So I felt the call to buy long around $14 was a no brainer as well. It never closed below $14 since May. I also felt the new video platform they were rolling out and emphasizing were promising. Furthermore, they had signed an exclusive streaming deal with the NFL, so I felt all of these things would propel the stock higher later in the year, and the same speculators who sold so heavily would be back buying. Today the stock trades about $19.5, an increase of nearly 40% in under 3 months!!

I won’t get into MGT Capital, except to say management was changing directions – again – to focus on security systems and had hired John McAfee as their CEO. He was the founder and CEO of McAfee Antivirus software company. I felt this was a good high risk speculative play. One high risk investment out of 5 is ok. At the time the stock had already jumped from about $0.50 to $2.50 on the news, a five fold increase almost overnight! But I still felt long term it could go higher. It trades around $3.2 today (and has gone as high a $4), an increase of 25%.

As you can see, I thought overall markets would go down. I was wrong. However, even if they did, I felt stocks like Macy’s and Twitter would not fall much further, or could even rise slightly in this environment. If I was wrong, and markets went up, both Macy’s, Twitter and MGT would far outperform the general market given their pummeling and my expected improvement in their earnings and outlook. So this is a hedged position clearly. And since I had both long and short positions, its called a long-short hedged strategy. Two out of three scenarios would yield a profitable outcome. And given investing is less about being absolutely right or wrong, but about probability, it was an easy no brainer I thought.

And my strong gold buy recommend is simply an on-going call because I believe it’s the only reliable hedge against catastrophe. It is the ultimate hedge at this point for an utter market collapse, which I am fairly certain is coming soon. I thought it would happen this year in 2016, but I’ve always said it could take as long as 2017. It’s a complicated process.

The overall outcome, asuming an equal allocation weighting of all stocks (all 5) would be 20%. Not bad for 3 months of doing nothing. Of course, some of my friends were buying stock options, in which the actual gains would’ve been at least 100%, likely much higher, depending on which options they purchased. But stock options is too advanced stuff for this blog. Perhaps another time for that tutorial.

Anyway, I hope this is helpful. Learning how to invest, while reducing risk, and growing wealth is just as important as going to college – or even high school. It’s not useless information. You’re smart enough to learn this stuff if you put a little effort into it, I promise you.

You are always welcome to email me with any questions.